What is Econometric Modelling? And What Are The Benefits?
Econometric modelling uses statistical analysis to discover how changes in activities are likely to affect sales and turnover, so you can predict future impact and make better-informed decisions. Most typically, it’s used in marketing to provide valuable insights into how well a campaign or marketing activity may perform and the factors that will drive the most ROI.
For example, you may be thinking about launching a new promotional campaign, a sales discount, or loyalty scheme. Econometric modelling will help you to:
- Understand how different variables, like price and distribution channels, will impact your performance
- Determine the optimal allocation of resources across your different marketing activities
- Forecast your future demand
- Identify different customer segments and their responsiveness to marketing activities
- Evaluate market conditions and competitive factors that may impact consumer behaviour
- And much more.
For businesses, complex econometric models can help to answer questions about what really drives a company’s main KPIs, such as volume, value, market share and gross margin. After all, few companies really understand the external forces that affect their industries or their brands.
As well as helping you to answer these vital questions, econometric modelling can also help you to:
- Save money
- Drive better, faster results
- Make data-informed decisions
- Make your business more profitable
Marketing Mix Models; A Subset Of Econometric Modelling
Marketing mix modelling is one way to use econometric methods — this type of model uses aggregated data to analyse all marketing inputs over time to arrive at an optimal allocation for resources. For example, what’s the correct amount to spend on television advertising compared to the radio or the internet? Should a company invest money in more salespeople or in more advertising? What is the impact of promotional spending? At what is the point of diminishing return? With the right approach you can find the right answers.
Marketing mix models have been used historically but were phased out with the rise of individual tracking. However, changes in legislation, like Googles privacy sandbox and the diminishing of third-party cookies, have reduced the ability for businesses to use individual tracking, which in turn has led to the return of the marketing mix model.
Implementing Econometric Models
The first step to making econometric models work, like marketing mix modelling, of course, is to have good data. At Jarmany, we recommend having at least 3 years worth of data to input into the model. Limiting this to just 1 year, for example, would mean that the model would be unable to identify any trends or patterns, and the output would match the trends of last year since there is only one reference point. Basically, the more data, the better.
These are the steps you should follow:
- Define all the parts of the marketing mix that might have an impact on sales.
- Review the state of your existing marketing data on these activities and close the gaps where they exist.
- Set-up ongoing processes to collect, clean and store the data; and develop the history that will help provide the patterns the model will identify.
- Begin modelling.
With everything in place, econometric models can enable businesses to forecast demand by examining all the economic factors involved. For example, econometric analysis revealed that the growth in the number of women working in the US played a major role in the growth of the restaurant industry from 1950 to 2000. But other variables were at work too: rising incomes made eating out more affordable and greater levels of car ownership, especially among teenagers and college students, all translated into higher restaurant sales.
Understanding the economic variables that underlie demand makes it possible to forecast the future of an entire industry. What happens to your company if the price of oil plummets, or if more women re-enter the workforce after having families?
It’s obviously not a simple and straightforward analysis, but having the right data and knowing how the global winds of change are shifting can stop a business from suffering huge setbacks. Just ask BlackBerry or Kodak about the impact of the smartphone revolution.
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Econometric modelling can deliver a massive benefit to businesses that want to forward plan and avoid major disruption. But, it’s critical that you have the right foundations in place before you begin econometric modelling. If your inputs are sub-optimal, your outputs will be sub-optimal too.
Get in touch with our experts and we’ll explain how we can bring this benefit to you.